Your Emergency Fund and YouSubmitted by Reby Advisors on June 9th, 2017
Summer’s finally here. The sun is out, it’s warm, the days are longer, and your worries seem just a little bit further away. But, folks, sorry to say, sometimes storms roll in on the sunniest of days. And honestly, the world is a bit of a scary place at the moment, with politics impacting the economic climate, and warmer temperatures affecting agriculture all around the world, the future is anything but certain.
So instead of purchasing a bunker and preaching the end is near to your entire social media following, prepare for the uncertainty with an emergency fund. What is an emergency fund? According to Investopedia - by the way Investopedia is an awesome financial term resource - an emergency fund can be defined as, “an account used to set aside funds needed in the event of a personal financial dilemma, such as the loss of a job, a debilitating illness or a major expense. The purpose of the fund is to improve financial security by creating a safety net of funds that can be used to meet emergency expenses as well as reduce the need to draw from high interest debt options, such as credit cards or unsecured loans.”
An emergency fund may also help you avoid selling securities at an inopportune time.
Let's take the example of "Brian" and "Susan," a married couple enjoying retirement. Their roof started leaking, and after investigation, they realize it's no small job. In fact, they need a completely new roof costing $20,000. Problem is, with only enough cash on hand to live their lifestyle for the rest of the year, they have to sell securities they had planned to hold onto.
That means they have to withdraw from a 401(k) and pay taxes on the withdrawal as income. Being in the 28% tax bracket, they have to withdraw approximately $27,777 from their accounts to pay for the $20,000 new roof (and send the difference on a one-way trip to Washington D.C.).
Had they simply had an emergency fund, they could have paid for the new roof and replenished the fund in a tax-efficient way. Of course, the example of Brian and Susan isn't the worst case scenario for not having an emergency fund, but it does to show that everyone should have one.
The old saying ‘failing to prepare is preparing to fail’ comes to mind when thinking about the importance of an emergency fund. It’s not necessarily top of mind when payday arrives, however maintaining an emergency fund or establishing one should be prioritized.
So how much should you contribute to your emergency fund?
As daunting as it might seem, it’s recommended that you save 6-9 months of living expenses in your emergency fund1. Many financial institutions have calculators available to estimate the amount you should keep. In fact, Nerdwallet has a fantastic resource breaking down your monthly expenses to deliver a 6 month estimate of how much you should save.
If you’re at the beginning of your journey to creating an emergency fund, where should you start? Set monthly goals and stick to them. Cut back on things that could be considered luxuries, and remember that one day you might be thankful your emergency fund exists2.
Once you start to build your rainy day fund, it’s critical to remember what an emergency really is. It is not a vacation - as much as I wish it was - it is not a new wardrobe, or even a new television. It truly needs to be allocated to emergencies.
Having a sufficient emergency fund is a component of our Lifestyle Sustainability Scorecard, a measure of how well you are managing risks. To learn more about developing a financial plan that potentially puts more money in your pocket and minimizes your financial risks, contact Reby Advisors by calling (203) 790-4949 or emailing email@example.com.